Introduction
Swaps are the most common way of interacting with the Uniswap protocol. For end-users, swapping is straightforward: a user selects an ERC-20 token that they own and a token they would like to trade it for. Executing a swap sells the currently owned tokens for the proportional1 amount of the tokens desired, minus the swap fee, which is awarded to liquidity providers2. Swapping with the Uniswap protocol is a permissionless process.
note: Using web interfaces (websites) to swap via the Uniswap protocol can introduce additional permission structures, and may result in different execution behavior compared to using the Uniswap protocol directly. To learn more about the differences between the protocol and a web interface, see What is Uniswap.
Swaps using the Uniswap protocol are different from traditional order book trades in that they are not executed against discrete orders on a first-in-first-out basis — rather, swaps execute against a passive pool of liquidity, with liquidity providers earning fees proportional to their capital committed
Price Impact
In a traditional order-book market, a sizeable market-buy order may deplete the available liquidity of a prior limit-sell and continue to execute against a subsequent limit-sell order at a higher price. The result is the final execution price of the order is somewhere in between the two limit-sell prices against which the order was filled.
Price impact affects the execution price of a swap similarly but is a result of a different dynamic. When using an automated market maker, the relative value of one asset in terms of the other continuously shifts during the execution of a swap, leaving the final execution price somewhere between where the relative price started - and ended.
This dynamic affects every swap using the Uniswap protocol, as it is an inextricable part of AMM design.
As the amount of liquidity available at different price points can vary, the price impact for a given swap size will change relative to the amount of liquidity available at any given point in price space. The greater the liquidity available at a given price, the lower the price impact for a given swap size. The lesser the liquidity available, the higher the price impact.
Approximate3 price impact is anticipated in real-time via the Uniswap interface, and warnings appear if unusually high price impact will occur during a swap. Anyone executing a swap will have the ability to assess the circ*mstances of price impact when needed.
Slippage
The other relevant detail to consider when approaching swaps with the Uniswap protocol is slippage. Slippage is the term we use to describe alterations to a given price that could occur while a submitted transaction is pending.
When transactions are submitted to Ethereum, their order of execution is established by the amount of "gas" offered as a fee for executing each transaction. The higher the fee offered, the faster the transaction is executed. The transactions with a lower gas fee will remain pending for an indeterminate amount of time. During this time, the price environment in which the transaction will eventually be executed will change, as other swaps will be taking place.
Slippage tolerances establish a margin of change acceptable to the user beyond price impact. As long as the execution price is within the slippage range, e.g., %1, the transaction will be executed. If the execution price ends up outside of the accepted slippage range, the transaction will fail, and the swap will not occur.
A comparable situation in a traditional market would be a market-buy order executed after a delay. One can know the expected price of a market-buy order when submitted, but much can change in the time between submission and execution.
Safety Checks
Price impact and slippage can both change while a transaction is pending, which is why we have built numerous safety checks into the Uniswap protocol to protect end-users from drastic changes in the execution environment of their swap. Some of the most commonly encountered safety checks:
Expired : A transaction error that occurs if a swap is pending longer than a predetermined deadline. The deadline is a point in time after which the swap will be canceled to protect against unusually long pending periods and the changes in price that typically accompany the passage of time.
INSUFFICIENT_OUTPUT_AMOUNT : When a user submits a swap, the Uniswap interface will send an estimate of how much of the purchased token the user should expect to receive. If the anticipated output amount of a swap does not match the estimate within a certain margin of error (the slippage tolerance), the swap will be canceled. This attempts to protect the user from any drastic and unfavorable price changes while their transaction is pending.
- Proportional in this instance takes into account many factors, including the relative price of one token in terms of the other, slippage, price impact, and other factors related to the open and adversarial nature of Ethereum.↩
- For information about liquidity provision, see the liquidity user guide↩
- The Uniswap interface informs the user about the circ*mstances of their swap, but it is not guaranteed.↩
FAQs
A swap is an agreement or a derivative contract between two parties for a financial exchange so that they can exchange cash flows or liabilities. Through a swap, one party promises to make a series of payments in exchange for receiving another set of payments from the second party.
What are the types of swaps? ›
Types of swaps
- Interest rate swaps.
- Basis swaps.
- Currency swaps.
- Inflation swaps.
- Commodity swaps.
- Credit default swap.
- Subordinated risk swaps.
- Equity swap.
A swap allows counterparties to exchange cash flows. For instance, an entity receiving or paying a fixed interest rate may prefer to swap that for a variable rate (or vice versa). Or, the holder of a cash-flow-generating asset may wish to swap that for the cash flow of a different asset.
What is a simple example of swaps? ›
An example of a swap is an interest rate swap, in which one party agrees to pay a fixed interest rate and receives a floating interest rate from the other party. This can help the fixed rate payer protect against the risk of rising interest rates, while the floating rate payer can benefit from lower interest rates.
What are examples with swap? ›
He swapped his cupcake for a candy bar. He swapped desserts with his brother. = He and his brother swapped desserts. I'll swap my sandwich for your popcorn.
What is considered a swap? ›
A swap is an agreement for a financial exchange in which one of the two parties promises to make, with an established frequency, a series of payments, in exchange for receiving another set of payments from the other party. These flows normally respond to interest payments based on the nominal amount of the swap.
Why do people trade swaps? ›
Typically, swaps are used by: Companies to reduce their risks and manage their debt more efficiently. For instance, this may be achieved by exchanging a floating (variable) interest-rate exposure for a fixed interest-rate exposure. Pension schemes and insurance companies to manage interest-rate risk.
What are the most common swaps? ›
The most popular types of swaps are plain vanilla interest rate swaps. They allow two parties to exchange fixed and floating cash flows on an interest-bearing investment or loan. Businesses or individuals attempt to secure cost-effective loans but their selected markets may not offer preferred loan solutions.
What are the disadvantages of swaps? ›
The disadvantages of swaps are: 1) Early termination of swap before maturity may incur a breakage cost. 2) Lack of liquidity.
How risky are swaps? ›
What are the risks? Like most non-government fixed income investments, interest-rate swaps involve two primary risks: interest rate risk and credit risk, which is known in the swaps market as counterparty risk. Because actual interest rate movements do not always match expectations, swaps entail interest-rate risk.
Swaps are often used because a domestic firm can usually receive better rates than a foreign firm. A currency swap is considered a foreign exchange transaction and, as such, they are not legally required to be shown on a company's balance sheet.
Can I make money with swaps? ›
How to Make Money in Swaps? Positive swaps are generated by buying a currency (the base currency) with a higher interest rate against a currency with a lower rate (the quote currency). In this instance, the investor generates a profit for holding a position overnight.
What is the most common type of swap? ›
The most popular types include:
- #1 Interest rate swap.
- #2 Currency swap.
- #3 Commodity swap.
- #4 Credit default swap.
Working of Currency Swaps Contract With an Example
- Company A is based in the United States and wants to borrow euros.
- Company B is based in Europe and wants to borrow U.S. dollars.
- Both companies find that they can get better interest rates by borrowing in their home currencies than in foreign currencies directly.
Advantages of Swaps:
- Flexibility: Swaps are highly flexible and can be tailor-made to meet the unique requirements of the parties involved. ...
- Low Transaction Costs: The cost of transacting in the swap market is relatively low compared to other financial markets.
The word swap means you give something in exchange for something else. In the medieval ages, a farmer would swap — or exchange — his cow for his neighbor's horse. First used in the 1590s to mean "exchange, barter, trade," as a noun swap can mean an equal exchange.
What is swap used for? ›
Swap memory, also known as swap space, is a section of a computer's hard disk or SSD that the operating system (OS) uses to store inactive data from Random Access Memory (RAM). This allows the OS to run even when RAM is full, preventing system slowdowns or crashes.
What is the legal definition of a swap? ›
(A) In general Except as provided in subparagraph (B), the term “swap” means any agreement, contract, or transaction— (i) that is a put, call, cap, floor, collar, or similar option of any kind that is for the purchase or sale, or based on the value, of 1 or more interest or other rates, currencies, commodities, ...
What does it mean to swap in something? ›
To "swap in" something is to bring it in, and replace another thing with it.
